The Baltic Outlook: Update, July 2009


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The Baltic Outlook: Update, July 2009

  1. 1. The Baltic Outlook: UpdateMacro Outlook, The Baltic Region, July 2009Estonia for keeping budget deficitFurther cuts neededbelow 3% of GDPLatvia spending cuts approved, but deeper2009 budgetrestructuring is requiredLithuania private sector have been fast,Adjustments in thethe public sector lags despite efforts
  2. 2. SummaryIntroduction 2004 2005 2006 2007 2008 2009f 2010f Economic growth, % Estonia 7.5 9.2 10.4 6.3 -3.6 -13.5 -2.0 Latvia 8.7 10.6 12.2 10.0 -4.6 -17.0 -3.0 Lithuania 7.4 7.8 7.8 8.9 3.0 -16.0 -3.0 Average consumer price growth, % Estonia 3.1 4.1 5.1 6.6 10.4 -0.5 -0.3 Latvia 6.2 6.7 6.5 10.1 15.4 3.0 -4.0 Lithuania 1.2 2.7 3.7 5.7 10.9 5.0 2.0 Current and capital account balance, % of GDP Estonia -10.6 -9.3 -14.9 -17.2 -8.4 3.5 5.5 Latvia -11.8 -11.2 -21.3 -20.6 -9.8 4.0 5.0 Lithuania -6.4 -5.8 -9.5 -12.8 -9.7 2.0 1.5There have been relatively little changes in the global eco- budget position, they should not forget the need to promotenomic forecast since our previous Baltic Outlook released at long-term economic development as well.the end of April, especially if compared with the previous half- The adjustments in the private sector have been faster andyear’s turmoil. Still, the expectations have become somewhat deeper than we expected. This along with stabilisation of pro-more pessimistic particularly concerning consumers in the de- duction in major export countries has brought improvement inveloped world, albeit financial markets have improved and the confidence and signs of stabilisation in exports and industrialprices of some commodities have grown (incl. oil). We have also production. But the recovery process will be slow and annualseen worse than expected results of the 1st quarter all over the growth rates are many months, including in the three Baltic countries. The unbalanced growth of 2005-2008 is the reason for theAll this has been the basis for revising our GDP forecast for depth of the current crisis in the three Baltic countries. How-2009 downwards, but the biggest reason is the local economic ever, most of the imbalances have now improved: the currentpolicy. The decision-making has been delayed mostly due to EU accounts are in surpluses, excessive inflation has been sub-parliamentary and local elections, as the governments have to stituted with deflation (incl. wages, real estate, etc.), and themake difficult choices and substantially cut their spending. The deleveraging process has started. We are of the opinion thatcost-cutting in the public sector and tax increases will have a although the three countries are among those suffering thedetrimental effect on domestic demand, which is expected to most during the crisis, they can recover from it being muchsuffer from increased unemployment and lower incomes. stronger and having good growth prospects. But this requiresWe acknowledge the governments’ steps, and hope the sub- a lot of work both in the private and public sectors. Structuralsequent decisions will be made more timely and with less changes should continue and the governments should concen-hesitation. The need for further adjustment in public sector trate on building up an effective public sector and good eco-spending is high and this should be accompanied with struc- nomic policies.tural reforms. Although the governments have to look on the Maris Lauri Please see important disclosures on last pageMacro research— Swedbank Page 2 of 10
  3. 3. EstoniaEstonia 2004 2005 2006 2007 2008 2009f 2010fEconomic growth, % 7.5 9.2 10.4 6.3 -3.6 -13.5 -2.0GDP, EURm 9,651 11,091 13,104 15,270 13,400 13,500 14,200GDP per capita, th kroons 111.9 128.9 152.6 178.1 185.1 160.0 155.0 euros 7,153 8,239 9,754 11,381 11,830 10,200 10,100Growth of industrial production, % 10.5 10.9 10.0 6.8 -6.2 -20.0 4.0Growth of GDP deflator, % 3.3 5.3 7.0 9.6 7.8 -1.5 0.0Growth of consumer prices, % 3.1 4.1 5.1 6.6 10.4 -0.5 -0.3Growth of harmonised consumer price index, % 3.0 4.1 4.5 6.7 10.6 -0.3 -0.1Growth of producer prices, % 2.9 2.1 4.5 8.3 7.2 -2.0 1.0Harmonised unemployment rate (average), % 9.6 7.9 5.9 4.7 5.5 12.5 13.0Real growth of average monthly gross wage, % 5.1 6.1 10.5 13.0 3.1 -7.0 -3.5Growth of exports of goods and services, % 17.3 26.9 17.7 7.0 6.9 -18.0 2.5Growth of imports of goods and services, % 16.2 25.0 25.6 8.0 -2.7 -25.0 0.0Balance of goods and services, % of GDP -7.0 -6.4 -12.2 -12.0 -4.3 2.5 4.0Balance of current and capital account, % of GDP -10.6 -9.3 -14.9 -17.2 -8.4 3.5 5.5Inflow of FDI, % of GDP 8.0 20.8 10.9 13.1 8.4 3.5 5.5Foreign gross debt, % of GDP 77.3 87.2 98.5 113.6 120.0 120.0 119.0General government budget position, % of GDP 1.7 1.5 3.3 2.7 -3.0 -4.5* -4.5*General government debt, % of GDP 5.0 4.4 4.0 3.0 2.6 4.0 6.0* if the government will not make additional budget adjustments; but we are of the opinion that some adjustments will be madeWe expect the Estonian economy to contract by 13-15% this are expected to fall the most (ca 25-30%), the biggest nega-year and 1-3% next. Consumer prices are expected to fall tive contribution is expected from households, whose spend-slightly, while the decline in producer prices will be substan- ing declines by 19-21% this year and 3-5% in 2010. Govern-tially deeper than for consumers in 2009. The external bal- ment consumption will drop by 5.5-8.5% in 2009-2010.ances are expected to continue to improve: we forecast the The improvement in the economy will start with exports,current and capital account to be in surplus by 3-5% of GDP which follows the pattern of Estonia’s main exports markets,and foreign gross debt to decline as the deleveraging process i.e. Sweden, Germany and Finland, where we can currently seedeepens. The public sector deficit will be close to 3% of GDP, stabilisation and slight improvement. Hence we expect stabili-but its size will depend on how successful the government is in sation of exports in the 2nd half of 2009, but at a substantiallyhandling public sector spending. lower level than in the previous year. The next year might bringWe lowered our real GDP expectation most of all because of growth, albeit it will be slow at first. For sustainable exportdomestic demand, which we forecast to drop by over 20% this growth new investments are required but they are expectedyear and ca 4% next year. The contribution of net exports will at best in the 2nd half of 2010.remain positive despite falling trade volumes and this year it Household spending is affected by growing unemployment,might reach 12% and next year 1-2%. Although investments declining incomes and higher saving propensity. We forecast that unemployment will exceed 13% this year and in some GDP Grow th Com ponents months of 2010 it may reach 15%. The unemployment rate is 20% also affected by a declining activity rate as in the course of 10% the crisis increasingly more people will become discouraged. The num0ber of employed persons will fall to the level of 0% 2001-2002 (i.e. below 590 thousand) at the peak of the crisis. 2005 2006 2007 2008 2009f 2010f 2011f Incomes are also affected by wage and working hours’ cuts. -10% Wage cuts have been very extensive in the private sector but so far relatively modest in the public sector, where we forecast -20% a correction in the 2nd half of 2009 and in 2010. We forecast that this year’s wage bill will be ca 16-20% lower than in 2008 -30% Households Gov ernment Inv estments and an additional decline in 2010 will amount to 6-7%. That Net exports GDP means a ca 7-8% and ca 4%, respectively, decline in the gross Source: ESA, Swedbank estimates and f orecast average monthly wage. Taking into account higher unemploy- Please see important disclosures on last pageMacro research— Swedbank Page 3 of 10
  4. 4. Estoniament insurance payments, changes in sickness payments and Companies’ inventory cutting will continue at least in the 2ndtemporary abolition of payments into the 2 pension pillar, the nd and 3rd quarters, and we do not expect real estate investmentsnet wages are expected to fall to the level of 2007 (i.e. close to to grow in 2009-10. After exports recover we expect growthEEK 9000 or EUR 575). in corporate investments in production capacities, but their level is dependent on the availability of financing, which as ofThe poor employment and income outlook has already in- now is poor. Public sector investments from own sources willcreased households’ precautionary savings and we expect this be very low for several years. However, investments relatedprocess to continue. We expect that in 2010 unemployment to EU (partial) funding will grow substantially as the availableinsurance payments will decline as more and more unemployed funds are larger than in previous years, the access made easierpersons will be not eligible to get them (it is paid up to 1 year). and fallen prices make investing cheaper. Hence we forecastHence, the incomes of many households will fall to extremely strong growth in engineering, particularly in infrastructurelow levels, which induces households to use their savings. The construction (road building, environment investments, etc.).worsening financial situation of households will encourage la-bour outflow in 2010 and beyond, and the improving situation The increase of consumption taxes will be distributed betweenin the EU economies will make it possible. This development is consumers and sellers: the preliminary effect on consumersa strong long-term risk for the Estonian economy. will be stronger, but retailers and companies will suffer later through the need to cut prices as consumptions slips. Hence,The government’s policy has been to keep the budget deficit at the CPI decline will continue, but in the 2nd half of 2009 it willa tolerable level, i.e. on a level which is possible to cover with be less and in the 1st half of 2010 deeper than we expectedreserves and loans taken in acceptable terms (e.g. with not too previously.high interest rates). The Maastricht budget criterion (i.e. 3%of GDP) is a good target as besides being accepted as reason- Current and Capital Account, % of GDPable in an economic crisis it also has a complementary benefitin the form of allowing the EMU entry rules to be fulfilled. The 10%clear perspective of euro adoption would lower several risks 5%and make (foreign) investments cheaper and accessible, whichwould support faster recovery from the current crisis. But that 0% 2007 2008 2009f 2010f 2011fof course is not the only requirement for the economic recov- -5%ery. It is hard to fulfil the Maastricht budget criterion as fore- -10%casting GDP volumes in the unstable economic environment isextremely difficult. Hence, the safety margin should be taken -15%into account in case the GDP volume is lower than expected. -20%Consequently, the public sector’s deficit should be below EEK Trade and serv ices Incomes6bn, not below EEK 6.84bn as suggested in the MoF’s spring Transf ers Balanceforecast. We are still of the opinion that Estonia may enter the Source: EP; Swedbank calculations and f orecasteuro zone by 2011; however, the probability has declined dueto political processes, making the budget adjustments a mat- The weak domestic demand, which suffers not only from theter of complicated political bargaining. global economic developments, but also from budget cuts and sharp adjustments in consumption and production, will meanThose intentions have already forced the government to make that the decline of imports will be significantly deeper thantwo supplementary budgets this year, but the third is required exports and corporate profits low (incl. foreign investors’ in-as according to our estimates adjustments in the amount of at comes). The increase of EU assistance (from different struc-least EEK 2bn are still needed. The good point is that the MoF tural and other funds) will create a substantial flow of theadmits the need for further adjustments (EEK 1-1.5bn). Our current and capital transfers. Hence the current account willexpectations differ from the MoF’s due to less optimistic tax remain in surplus in 2009 and beyond. We will see the smallerrevenue expectations, particularly from consumption taxes. outflow of foreign capital mostly due to losses, and throughWe are sceptical about the non-tax revenues, and we see that banks (as lending activity shrinks, borrowed funds will be re-it is probable that cuts bigger than EEK 2bn may be needed. turned to the mother banks). Maris Lauri Please see important disclosures on last pageMacro research— Swedbank Page 4 of 10
  5. 5. LatviaLatvia 2004 2005 2006 2007 2008 2009f 2010fEconomic growth, % 8.7 10.6 12.2 10.0 -4.6 -17.0 -3.0GDP, mln euros 11,176 13,012 16,047 19,936 21,910 17,822 16,423GDP per capita, euro 4,846 5,671 7,034 8,779 9,690 7,931 7,358Growth of GDP deflator, % 7.0 10.2 9.9 20.3 15.2 -2.0 -5.0Growth of consumer prices, % 6.2 6.7 6.5 10.1 15.4 3.0 -4.0Growth of harmonised consumer price index, % 6.2 6.9 6.6 10.1 15.3 3.0 -4.0Growth of producer prices, % 8.6 7.8 10.3 16.1 11.5 -5.0 naHarmonised unemployment level, % 10.4 8.9 6.8 6.0 7.4 17.0 20.0Real growth of average net monthly wage, % 2.4 9.7 15.6 19.9 6.1 -17.5 -5.0Growth of exports of goods and services, % 21.4 31.4 15.3 24.1 10.4 -19.0 1.0Growth of imports of goods and services, % 27.0 27.4 31.3 23.5 -3.3 -33.0 -9.0Balance of goods and services, % of GDP -15.8 -15.2 -22.2 -20.6 -13.0 -3.5 1.0Current account balance, % of GDP -12.8 -12.5 -22.5 -22.5 -12.6 2.0 3.0Current and capital account balance, % of GDP -11.8 -11.2 -21.3 -20.6 -9.8 4.0 5.0Net FDI, % of GDP 3.8 3.6 7.5 6.7 3.3 1.0 3.0Foreign gross debt, % of GDP 93.3 99.4 114.0 127.6 128.2 156.0 167.0General government budget, % of GDP (ESA) -1.0 -0.4 -0.2 0.1 -3.3 -9.0 -8.0General government debt, % of GDP 14.9 12.4 10.7 9.0 19.5 33.0 44.0Economic adjustment in the Latvian economy is proceeding Our GDP forecast was also lowered due to harsher govern-quickly. The rapid decline in the trade deficit led to a current ment spending reduction in the 2H 09 and sharper spill-overs.account surplus as of early 2009, and it has risen since then. The supplementary budget was approved on June 16th and theThe deflation scenario is working as the labour market is flex- amendments came into effect on 1st July. It is planned thatible, and the private sector is adjusting to the worsening eco- central government expenditures in 2009 will be 8% lowernomic outlook. The weakest link has become public finances, as than in 2008, while revenues will decline by 14%. We believesignificant government expenditure cuts were postponed due that the fall in government revenues is likely to reach 20%. Into local government elections on June 6th. such a case the general government deficit will reach ca 9% of GDP (of which municipalities’ deficit is ca 2% of GDP). SizeableWe forecast ca 17% GDP fall in 2009 (-15% before). The some- expenditure cuts in the 2H 09 will hit the companies that arewhat deeper than expected contraction in the 1Q (-18% yoy) mostly oriented towards government orders particularly hardwas predominately driven by a decrease in inventories, while (e.g. in the IT sector that has not been directly hurt so far).private consumption and investments (excl. inventories) de-clined less than we expected. Although we had forecast the The modest decline in private consumption in the 1Q cande-stoking, the adjustment was extremely rapid. It is expected partly be attributed to the fact that households proactivelyto continue throughout 2009 albeit at a much slower pace. As cut their consumption in 2008, i.e. before reduction in theirpreviously, we expect the economy to reach its deepest point real incomes. The 2Q was also relatively good but we expect ain mid-2010. large decline in consumption in the 2H 09 with another unem-Real Grow th of GDP by expenditure, % yoy ployment wave and sharper wage cuts (e.g. ca 20% in the pub- lic sector) triggered by government spending cuts. After tem- 30 porary improvement in consumer confidence in March-May it 20 retreated in June to early 2009 levels. As private consumption 10 contraction is now skewed to the end of 2009 and expected to 0 bottom out in the 2H 2010, a larger fall is anticipated in 2010 -10 (15% vs. 12% before) due to the base effect. -20 -30 Investments excluding inventories performed better in the 1Q -40 09 than we had expected, but as the data are usually substan- 2004 2005 2006 2007 2008 2009f 2010f tially revised, we are not changing our -30% forecast for 2009 GDP Households consumption so far. The deepest point is forecast in mid-2010 levelling out Gov ernment consumption Gross f ixed capital f ormation Exports Imports afterwards due to export needs. On the negative side are non- Source: CSBL; Swedbank calculations and f orecast existing residential real estate investments, as well as the Please see important disclosures on last pageMacro research— Swedbank Page 5 of 10
  6. 6. Latviaplanned decrease in capital expenditures by the government. Current Account, LVLmPostponement of the government decisions raises uncertain-ty and lowers investor confidence. On the positive side, there 200are several large investment projects announced in the wood 100processing sector and pharmaceuticals in 2009. 0 -100Industry Indicators, s.a. -200 400 40 -300 300 30 -400 200 20 -500 100 10 2007 2008 2009 0 0 -100 -10 Goods Serv ices -200 -20 Income Transf ers Current account balance Source: LaB -300 -30 -400 -40 sible tax rises will have an opposite effect. There is still no final 2006 2007 2008 2009 decision regarding tax changes in 2010 and we thus will not New orders in manuf acturing, 2005=100 (ls) New export orders in manuf acturing, 2005=100 (ls) change our forecast. Manuf acturing conf idence, pp (rs) Industrial output growth, y oy (rs) Speculative pressures due to uncertainty about the 2nd trench Source: Reuters EcoWin, CSBL by the EC and IMF led the Bank of Latvia to withdraw lats. Due to this liquidity squeeze interbank interest rates increasedAfter a swift real exports contraction in the 1Q (due to a fall in with the RIGIBOR hitting 30% in June. Banks’ necessity to fulfilglobal demand), we expect them to resume at the end of 2009. lats reserve requirements moved the LVL/EUR exchange rateIndustrial output stabilised in recent months; industry confi- to its stronger side and the Bank of Latvia intervened by buy-dence rose in April and has evened out since then due to im- ing lats from 8th of June till the end of the month. Volatility inproving future production expectations. For instance, compa- the financial market remains high and closely linked to reservenies in the wood processing industry are already back to their requirements. Credit stock continued to decline (by 3% sincequantities of last year albeit the prices have nearly halved. January). The worsening loan quality led to loan provisionsWhile other countries are not ready to sell at such low prices, reaching 4.5% of the credit portfolio in May. Banks are forcedin some industries Latvian producers are increasing their mar- to increase their capital in expectations of further losses.ket shares. Although the export deflator decreased only by2.7% qoq in the 1Q, producer price developments show further The key source of uncertainty is the government policy – thedeflation, which is necessary to restore competitiveness. With timing and quality of its decisions. Although the 2nd EC pay-the smaller fall in the export deflator, nominal exports are an- ment of EUR 1.2bn was agreed upon after the Latvian parlia-ticipated to decrease less than 20% in 2009. Global price de- ment approved the budget cuts, the structural adjustment isvelopments and exchange rate movements suggest that the still delayed. It is unclear how the public sector will be refor-import deflator in 2009 will fall less than we have expected. med and what support for businesses will be. Poor communi-The decline in nominal imports is thus anticipated to be smaller cation and frequent changes result in a perception that the go-than in our previous forecast (i.e. less than 35%). vernment is not doing its job (and does not have a clear action plan). It is extremely important to plan the 2010-2012 budgetThese foreign trade developments will result in swifter current and structural reform implementation process in the nearestaccount improvement. The current account was already in sur- 3 months, as short-term government actions determine busi-plus of 1.1% of GDP in the 1Q. The trade deficit will continue ness and public confidence and longer-term developments. Re-to diminish rapidly albeit a bit more slowly than previously as venues should be planned with particular caution as excessi-imports’ fall decelerates (e.g. due to higher exports and already vely optimistic forecasts (as in 2009) may put at risk attainingsignificantly reduced inventories). As a result, the current ac- budget deficit targets1. Current delays in the decisions harmcount surplus is anticipated to reach ca 3% of GDP, supported sustainable growth prospects several years losses of FDI (which improve income account) and remainpositive in 2010.CPI monthly deflation has been slower than expected albeit Lija Strašunasomewhat accelerating. Growing fuel prices that we did not Mārtiņš Kazāksanticipate in our previous forecast push CPI up. The excisetax on alcohol increased on 1st July, which was only decided inJune. As a result, average CPI inflation might be closer to 3% 1 According to revised Memorandum of Understanding among ECin 2009 (2% before). The negative output gap will continue and Latvia, general government budget deficit should be under 10% ofto put downward pressure on prices in 2010 as well, but pos- GDP this year, 8.5% in 2010, 6% in 2011 and 3% in 2012. Please see important disclosures on last pageMacro research— Swedbank Page 6 of 10
  7. 7. LithuaniaLithuania 2004 2005 2006 2007 2008 2009f 2010fEconomic growth, % 7.4 7.8 7.8 8.9 3.0 -16.0 -3.0GDP, mln euros 18,159 20,870 23,978 28,423 32,292 27,261 26,575GDP per capita, euros 5,285 6,113 7,065 8,420 9,612 8,151 7,978Growth of industrial sales, % 10.8 7.1 7.3 4.0 2.7 -20.0 -4.0Growth of GDP deflator, % 2.5 6.6 6.5 8.8 10.3 0.5 0.5Growth of consumer prices, % 1.2 2.7 3.7 5.7 10.9 5.0 2.0Growth of harmonised consumer price index, % 1.2 2.7 3.8 5.8 11.1 5.0 2.0Growth of producer prices, % 6.0 11.5 7.4 7.0 18.2 -13.0 3.0Harmonised unemployment level, % 11.4 8.3 5.6 4.3 5.8 14.5 16.0Growth of real net wage, % 4.9 6.8 14.9 17.7 11.2 -10.0 -5.0Growth of exports of goods and services, % 12.0 27.0 17.9 9.2 25.4 -27.0 -2.0Growth of imports of goods and services, % 14.2 26.1 23.1 15.9 18.3 -37.6 -1.3Balance of goods and services, % of GDP -7.0 -7.2 -10.3 -13.4 -10.5 -0.3 -0.6Current account, % of GDP -7.7 -7.1 -10.6 -14.6 -11.6 0.0 -0.5Current and capital account, % of GDP -6.4 -5.8 -9.5 -12.8 -9.7 2.0 1.5FDI inflow, % of GDP 3.4 4.0 6.0 5.2 3.8 1.5 1.0Foreign gross debt, % of GDP 42.4 50.7 60.2 72.3 71.4 76.7 76.0General government budget position, % of GDP -1.5 -0.5 -0.4 -1.2 -3.2 -7.0 -7.0General government debt, % of GDP 19.4 18.4 18.0 17.0 15.6 -21.5 -22.0We downgraded our GDP forecast to a ~16% fall instead of ness and consumer confidence already showed some signs of13% for 2009, taking into account the sharper GDP contrac- stabilisation and more positive news is expected regarding thetion in the 1Q, according to the second statistics estimate, and global economy at the end of 2009.the weaker than anticipated industrial sector performance. Despite the effects of the closure of the Ignalina nuclear pow-Domestic demand, consumption and investments in particular er plant in 2010, the fall of domestic demand is expected tohave so far been weakening more quickly than assumed previ- be smaller. Thus, economic contraction will be modest (-3%),ously and is expected to fall more substantially in 2009 with slightly stimulated by the government’s economic stimulusannual growth resuming at best in the 2H of 2010. The net plan. We anticipate some stabilisation at the end of 2010,export contribution to GDP, on the other hand, will be more followed by a limited recovery in 2011. The economy will gopositive than forecasted before: even though exports will re- through restructuring in the next few years and regain itsmain weak, the drop in imports is expected to be larger. Weak competitiveness through significant cost (incl. wage) cuts andcredit growth due to global and domestic deleveraging and production adjustments. The target is euro adoption in 2012:pessimism will be significant factors deepening and prolong- the right fiscal policy would make it possible to fulfil the Maas-ing the economic downturn. We expect the annual GDP decline tricht budget criteria of 3% of GDP by be the deepest in the 2Q and 3Q of 2009. A slightly smallercontraction is forecasted starting in the 4Q this year as busi- Household consumption is forecasted to show a sharp an- nual decline for the next few years due to wage cuts, a rise Econom ic Grow th and Inflation in unemployment and weak confidence. As people are afraid 12% 10.2% 8.9% of losing jobs, they increase precautionary savings and try to 6.9% 7.4% 7.8% 7.8% 8% 6.7% reduce their debt level. Although while in recent months the 4.2% 3.0% 4% first stabilisation signs in confidence were registered, another 0% wave of pessimism is likely to come at the end of the year with 2000 2002 2004 2006 2008 2010f substantial cuts in pensions, social benefits and wages for em- -4% -3.0% ployees in the public sector as well as an expected surge in un- -8% employment. We forecast household consumption to contract -12% by ~18% in 2009 and ~5% in 2010. -16% -16.0% Government consumption is expected to contract this and -20% next year due to a huge shortfall in revenues and the govern- GDP Inf lation ment’s intention to keep the budget deficit in the range of Source: LDS, Swedbank f orecast 6-7% of GDP. In our opinion, this fiscal target is possible, but Please see important disclosures on last pageMacro research— Swedbank Page 7 of 10
  8. 8. Lithuaniawill be difficult to achieve. According to the draft of the sec- -3.8% of GDP, while in the 1Q of 2009 a small surplus of 0.4%ond supplementary budget the central government’s revenues of GDP was registered. Two main factors, which contributedwill be reduced by EUR 0.58bn, while the expenditures – by a to the change, were a rapid decline of the trade deficit and amere EUR 0.1bn compared with the first estimate in May. The fall of the income account deficit due to a decline of reinvestedcentral government’s budget deficit is to be increased to EUR profits from FDI. We expect that the improvement in the mer-1.3bn up from EUR 0.9bn and the net borrowing limit is to be chandise trade deficit will be significant throughout the year –raised to EUR 2.7bn. even though the freefall in exports and imports has ended, no substantial pick-up in domestic demand, and hence in imports,In an attempt to overcome the deepening economic crisis and is expected. While consistently showing a surplus, the servicesfill a widening gap in public finances, the Government yet again account will remain one noteworthy factor pulling the currentproposed a package of measures, which includes increasing account balance to the negative side, as the demand for trans-the value-added tax from 19% to 21%, raising social insurance port services continues to decline. Although the currency de-contributions, and cutting public sector wages, pensions and preciation in the CIS region as well as Poland has ended, com-maternity benefits. The document also calls for submitting petitiveness compared to these countries remains weak; givenplans for substantial structural reforms aimed at reducing the the economic downturn in these countries as well, no pick-updeficit in 2010 (by ~EUR 1.1bn) by the 1st of September. in exports to the region is likely. Thus, economic recovery inAs forecasted, investments (excl. inventories) took a deep the near term is dependent on the revival of exports to the EUplunge in the first quarter of this year, while companies con- and other markets.tinued to reduce their inventories. Investments from own and As anticipated, consumer price inflation is quickly easing. Afterborrowed sources are virtually non-existent, while the main the initial jump at the beginning of the year monthly inflationsource of investment will come from EU funds. We continue was only marginal and monthly deflation was registered start-to expect a slight pick-up in investment in the export-oriented ing in April. The retail sector, accommodation, restaurants – allsectors next year contingent upon the signs of revival in eco- these sectors registered a fall in prices in the last few months.nomic activity in our main export partners. Virtually no signifi- Labour market developments mean that household purchas-cant help for investments is likely to come from the real estate ing power will continue to weaken, which will continue tosector in 2009-2010 – oversupply remains high, which, given push the prices of goods and services downwards. Authori-the labour market and credit market developments, is likely to ties also indicated that administratively regulated prices arebe reduced only after a few years. to be lowered this year, namely electricity – by ~11%, and gas – by 17% starting July 1st, which is likely to have a compositeContributions to GDP Grow th ~-0.45 pp effect on annual inflation. Even though the fall in 9% prices appears to be unrelenting, the CPI this year is positively 6% influenced by a rise in oil prices in global markets. However, the 3% firms for which fuel is a salient expense item, have a limited 0% ability to pass on the price increase to consumers; the same -3% 2005 2006 2007 2008 2009f limited effect is anticipated from the planned increases of the VAT rate from 19% to 21%. Hence, we retained our forecast -6% that average annual inflation would ease to 5% this year and -9% further slip to ~2% next year. Even if current developments in-12% energy prices, especially gas, persist, a rise in electricity prices Household consumption Gov ernment consumption and second-round effects following the Ignalina NPP shut- Inv estment External balance of goods and serv ices down may be significant next year. Sources: LDS, Swedbank calculation The slowdown in the credit growth has become swifter after the first months of the year and will be even more apparentWe expect the current account to be approximately in bal- in the next quarters. Money market rates experienced ad hocance this year and next. Due to a sharp economic downturn, jumps in the last months, which is likely to occur again untilthe improvement in the external imbalances has been swifter uncertainty and tension in the economy ease.than anticipated – during the 4Q of last year CAD narrowed to Lina Vrubliauskienė Ieva Vyšniauskaitė Please see important disclosures on last pageMacro research— Swedbank Page 8 of 10
  9. 9. LithuaniaContacts:Macroeconomic Analysis DepartmentEstoniaSenior Macro Analyst Maris Lauri +372 6 131 202 maris.lauri@swedbank.eeMacro Analyst Elina Allikalt +372 6 131 989 elina.allikalt@swedbank.eeMacro Analyst Annika Paabut +372 6 135 440 annika.paabut@swedbank.eeLatviaChief Economist Mārtiņš Kazāks +371 67 445 859 martins.kazaks@swedbank.lvSenior Economist Dainis Stikuts +371 67 445 844 dainis.stikuts@swedbank.lvSenior Economist Lija Strašuna +371 67 445 875 lija.strasuna@swedbank.lvLithuaniaSenior Macro Analyst Lina Vrubliauskienė +370 5 268 4275 lina.vrubliauskiene@swedbank.ltMacro Analyst Ieva Vyšniauskaitė +370 5 268 4156 ieva.vysniauskaite@swedbank.ltDisclaimer:This research report has been prepared by analysts of AS Swedbank in Estonia, AS Swedbank in Latvia and AB Bankas Swedbank in Lithuania (her-einafter the above banks and any of their division or affiliate collectively referred to as Swedbank Baltic Banking). Research unit is an independentstructural unit of Swedbank Baltic Banking which is responsible for preparing macro economical and equity reports. The activities of research unitdiffer from the activities of other credit institutions of Swedbank Baltic Banking and thus the opinions expressed in the research report might dif-fer from opinions expressed by other employees of Swedbank Baltic Banking.This report is based on information available to the public which is deemed to be reliable and reflects the analysts’ personal and professional opi-nions of such information. The report reflects the analysts’ best understanding of the information at the moment the research was prepared anddue to change of circumstances such understanding might change.This report has been prepared pursuant to the best skills of the analysts and pursuant to their best knowledge this report is correct and accurate,however no enterprise belonging to Swedbank Baltic Banking nor its directors, officers or employees shall bear any liability if the circumstancespresented in the report appear to be incorrect or inaccurate.Enterprises belonging to Swedbank Baltic Banking might have holdings in the enterprises mentioned in this report and provide financial services(issue loans, among others) to them. Aforementioned circumstances might influence the economic activities of such companies and the prices ofsecurities issued by them.The research presented to you is of informative nature. This report should in no way be interpreted as a promise or confirmation of SwedbankBaltic Banking or any of its directors, officers or employees that the events described in the report shall take place or that the forecasts shall proveto be the truth. This report cannot also be interpreted as a recommendation to invest into securities, enter into financial transactions or act insome other way. Swedbank Baltic Banking and its directors, officers or employees shall not be liable for any loss that you may suffer as a result ofrelying on this report.We stress that forecasting the developments of the economic environment is somewhat speculative of nature and the real situation might turnout different from what this report presumes.IF YOU DECIDE TO ACT PURSUANT TO THIS REPORT THEN YOU ARE OBLIGED TO VERIFY AND ESTIMATE THE ECONOMIC REASONABILITY ANDTHE RISKS OF SUCH ACTION INDEPENDENTLY.Abbreviations:CB– central bankCEE – Central and Eastern EuropeCPI- consumer price indexCSBL - Central Statistical Bureau of LatviaECB - European Central BankEKI - Estonian Institute of Economic ResearchEP – Eesti Pank (central bank)ESA– Estonian Statistical OfficeEU – European UnionHICP – harmonized index of consumer pricesLaB – Latvijas Banka (central bank)LDS – Lithuanian Department of StatisticsLiB – Lietuvos Bankas (central bank)MoF – Ministry of FinancePPI – producer price indexREER – real effective exchange rateMacro research— Swedbank Page 9 of 10